Thu, 26 Apr 2012
A dividend would be a good way to return capital to shareholders, says Morningstar's Drew Woodbury, but Buffett's reluctance means investors shouldn't hold their breath for one.
Jeremy Glaser: For Morningstar, I am Jeremy Glaser. We are gearing up for the 2012 Berkshire Hathaway Annual Meeting, and I'm here with Drew Woodbury. He is an insurance equity analyst at Morningstar. We are going to take a look at Berkshire's cash position and if the firm is going to paying a dividend anytime soon.
Drew, thanks for joining me.
Drew Woodbury: Thank you for having me.
Glaser: Berkshire and cash are kind of synonymous in a lot of ways. Where does all this cash come from? How is the firm generating all of this money that's on its balance sheet?
Woodbury: Most it comes from Berkshire's businesses. Berkshire has a lot of high-return-on-capital businesses that don't require a lot of capital reinvestment. So all those companies that fit in that description throw off lot of cash, which leads to that excess cash that Berkshire has. Also, with the insurance operations, premiums are paid before they pay out claims. We say that's a positive-flow business, so that's another source of Berkshire's cash.
Glaser: You have this money coming in from the insurance business, and you have stuff coming from the operating business. Historically, how has Warren Buffett thought about this cash management? How has he thought about dealing with just these huge numbers?
Woodbury: He likes to have a lot more cash than is necessary than what a typical company would hold. He [intends] that his financial security be unquestionable, is what he says; however much cash that requires is what he's going to hold. Also, he likes to have cash on hand for financial crises and the like. So for example in 2008 and 2009 when there was displacement in the markets, he likes to have cash available when others do not to pounce on opportunities.
Glaser: But certainly, that's somewhat of a subjective idea of how much cash you need to be incredibly strong. Do you think that Berkshire has too much cash or that right now the firm is sitting on more than it could ever possibly need?
Woodbury: In a short answer, yes, Berkshire has too much cash at this time. Buffett says he likes to have about $20 billion for liquidity purposes and $10 billion as the absolute minimum, and right now, the firm has about double that at $20 billion. So, even by his definition, Berkshire has an excess amount. That $20 billion and even that $10 billion that he references are probably a lot more than Berkshire needs to run the business or even to remain financially secure.
Glaser: If we're talking about having multiples more than even Buffett's own ideas of how much cash he should have, then what is Berkshire doing with it then? Is the firm just going to accept the 0% return that cash gets? What are the Berkshire's plans around that?
Woodbury: That's one of the main challenges facing the company. With the low-interest-rate environment, with not too many opportunities out there, and with the company getting increasingly large, it's harder and harder to find ways to invest that cash. One of the things you saw the firm do recently is the share repurchase. That's a good way to put cash to use and also drive a positive return for shareholders, assuming that the firm is buying below the intrinsic value, which is why you saw Buffett lay out very specific guidelines for where Berkshire is going to buy those shares back. If the firm buys below intrinsic value, it should be accretive to shareholder value.
Glaser: But certainly Berkshire only deployed a very small amount of money into its share buybacks this year as the share price rose up too quickly. What about a dividend then. Is that a better way to kind of get some that cash back into the hands of investors?
Woodbury: That's another way to return cash to shareholders traditionally, but I think that's probably a while down the line, not to say that it wouldn't be a good idea. Buffett has been historically very averse to it. He thinks he shouldn't pay out dividend until $1 reinvested in the business is not going to generate more than a $1, which is the way he defines that. And I think for him that would be somewhat admitting defeat, paying out a dividend that he can't find ways to invest that cash in positive-return businesses.
Glaser: It sounds like that as long as Buffett is at the helm, you're probably not going to see a regular payment. What would some of the pros of a dividend be, though? Even if it is few years down the line, why would investors want to see a dividend from Berkshire Hathaway? Would it restrict growth, or do you think that this is just Buffett being too conservative?
Woodbury: I don't necessarily think it would restrict growth. In our opinion, the opportunity set [for investment] is smaller, and acknowledging that is just another step. Maybe not with Buffett--we obviously have a lot of respect for his investment capabilities--but further down the line when you have another manager, a pro for a dividend would be that it may impose some discipline on the new management, in that they won't be always seeking out ways to use that cash and a dividend might be a way to return excess cash to shareholders?
Glaser: Drew, we'll definitely keep an eye on what Berkshire does with this giant cash pile over the next few years. Thanks for your thoughts.
Woodbury: Thank you.
Glaser: For Morningstar, I am Jeremy Glaser.